SECURITIES AND EXCHANGE COMMISSION
Washington, D.C.
SECURITIES EXCHANGE ACT OF 1934
Release No. 39459 / December 17, 1997
Admin. Proc. File No. 3-9289
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In the Matter of the Application of :
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MORGAN STANLEY & CO., INC. :
:
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OPINION OF THE COMMISSION
REGISTERED SECURITIES ASSOCIATION -- REVIEW OF ASSOCIATION ACTION
Jurisdiction to Review Action of Association
Member firm of registered securities association was denied exemption
from two-year prohibition on engaging in municipal securities business
in state where associated person made prohibited contribution to state
official. Held, the matter is not reviewable by the Commission
because the denial of the exemption does not constitute any of the
actions enumerated in Section 19(d) of the Securities Exchange Act of
1934, and application for review is dismissed.
APPEARANCES:
Kenneth A. Gross, of Skadden, Arps, Slate, Meagher & Flom LLP, for
Morgan Stanley & Co., Inc.
Alden S. Adkins, John Ramsay, and John Pilcher, for NASD Regulation,
Inc.
Diane G. Klinke and Ernesto A. Lanza, for the Municipal Securities
Rulemaking Board, amicus curiae.
Appeal lodged: March 31, 1997
Last brief filed: June 23, 1997
I.
On September 9, 1996, the head of the Fixed Income Division of Morgan
Stanley & Co., Inc. ("Morgan"), a member of the National Association of
Securities Dealers, Inc. ("NASD"), contributed $1,000 to the United States
Senate campaign of William Weld, then Governor of Massachusetts. As a
result, Morgan became subject to a two-year prohibition from engaging in
certain specified municipal securities business in Massachusetts, pursuant
to Rule G-37 of the Municipal Securities Rulemaking Board ("MSRB"). Rule
G-37 provides in pertinent part that "[n]o broker, dealer or municipal
securities dealer shall engage in municipal securities business [as defined
in the rule] with an issuer within two years after any contribution to an
official of such issuer made by . . . any municipal finance professional
associated with such broker, dealer or municipal securities dealer . . . ."
On November 5, 1996, Morgan applied to the staff of NASD Regulation,
Inc. ("NASDR") for an exemption from the two-year prohibition
under Rule G-37. That application was denied. On February 28, 1997,
NASDR's Fixed Income Committee rejected Morgan's appeal of the denial.
Morgan seeks review of the NASD's exemption denial before this Commission.
On May 19, 1997, we issued an order granting an interim stay of the two-
year prohibition and directing that the parties submit briefs addressing
the issue of whether this Commission has jurisdiction to consider Morgan's
appeal. As discussed below, we have determined that we do not have
jurisdiction to consider this matter.
II.
Rule G-37 serves a compelling government interest by addressing
practices in the municipal securities market known as "pay to play." Such
practices occur where a municipal securities firm makes contributions to,
or solicits contributions for, officials of state and local issuers in
order to be considered for an award of certain types of municipal
securities business over which the officials have influence. When we
approved Rule G-37, we stated that "[t]hese practices directly affect
municipal securities markets by increasing costs borne by issuers, dealers
and ultimately investors, by creating artificial barriers to competition,
On October 20, 1995, we approved NASD internal
procedures whereby the NASD Board of Governors
delegated authority to the staff of the NASDR Business
Line to conduct an initial review of requests by NASD
members for exemptions from the operation of Rule G-37.
See Securities Exchange Act Rel. No. 36403 (Oct. 26,
1995), 60 SEC Docket 1668.
The MSRB has moved for leave to file an amicus brief in
this matter. Morgan opposes the MSRB's motion,
claiming that the MSRB lacks the required interest in
the jurisdictional issue that the Commission directed
the parties to address. In the alternative, Morgan
asks this Commission to entertain only that portion of
the MSRB's brief addressing the jurisdictional issue.
We hereby grant the MSRB's request for leave to file an
amicus brief to the extent it relates to the
jurisdictional issue. We also grant Morgan's motion
for leave to file a reply brief to the briefs of NASDR
and the MSRB.
======END OF PAGE 2======
and by undermining underwriter and market integrity." In
considering Rule G-37, the United States Court of Appeals for the District
of Columbia Circuit observed that "underwriters' campaign contributions
self-evidently create a conflict of interest in state and local officials
who have power over municipal securities contracts and a risk that they
will award the contracts on the basis of benefit to their campaign chest
rather than to the governmental entity."
The rule seeks to insulate the municipal securities industry from the
potentially corrupting influence of political contributions that are made
in close proximity to the awarding of municipal securities business. It
does so by providing that a firm may not engage in municipal securities
business with an issuer for a two-year period if an official of the firm
has made a contribution covered by the rule. Creating such a barrier
removes the opportunity to benefit from such a contribution.
As we previously have observed, Rule G-37 "represents a balanced
response to allegations of corruption in the municipal securities market;
it provides specific prohibitions to help ensure that underwriter selection
is based on expertise, not on the amount of money given to a particular
candidate for
office." The D.C. Circuit concluded that the rule is "closely
drawn," restricting affected underwriters in a "narrow range of their
activities for a relatively short period of
time."
III.
Our authority to review NASD actions is governed by the Securities
Exchange Act of 1934 (the "Exchange Act"). Section 19(d) of the Exchange
Act authorizes Commission review of an action of a self-regulatory
organization ("SRO"), including the NASD, if that action:
(i) imposes any final disciplinary sanction on any member or
person associated with a member;
(ii) denies membership to any applicant;
(iii) prohibits or limits any person in respect to access to
services offered by such organization or member thereof; or
Securities Exchange Act Rel. No. 33868 (April 7, 1994),
56 SEC Docket 1176.
Blount v. SEC, 61 F.3d 938, 944 (D.C. Cir. 1994), cert.
denied, 116 S.Ct. 1351 (1996).
Securities Exchange Act Rel. No. 33868, 56 SEC Docket
at 1183.
Blount, 61 F.3d at 947.
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(iv) bars any person from becoming associated with a member.
Although we have not previously considered the question of whether we
can review actions involving the operation of Rule
G-37, we have considered the extent of Commission jurisdiction to hear
appeals from other types of SRO actions. Based on those earlier rulings,
we conclude that we do not have jurisdiction here under any of the four
prongs of Section 19(d).
A.1. Section 19(d)(1) gives us the authority to review self-
regulatory action that "imposes any final disciplinary sanction." We have
determined that, in denying Morgan's application for an exemption from Rule
G-37's two-year business disqualification, the NASD did not impose a
sanction. The prohibition against engaging in municipal securities
business was triggered automatically, pursuant to the operation of Rule G-
37. The NASD did not make any assessment of whether such contribution was
wrongful or otherwise take any action to impose the ban. It was the action
of Morgan's employee in making the contribution, not of the NASD, that
automatically triggered the rule's two-year ban. When the Fixed Income
Committee denied Morgan's request for an exemption from that automatic ban,
the NASD was merely exercising the discretionary authority granted it under
the
rule.
2. The NASD's denial of Morgan's request for an exemption from the
operation of the rule was not a disciplinary action within the meaning of
the Exchange Act because it did not impose "a punishment or sanction."
In a disciplinary action, a sanction is imposed following a
determination of wrongdoing. Here, by contrast, there is no determination
of wrongdoing. The NASD made no such finding. Nor does Rule G-37
characterize as wrongful the making of a political contribution. Rather,
as discussed above, the rule seeks to protect the integrity of municipal
securities markets by establishing an automatic, prophylactic time period
between the making of potentially compromising political contributions and
participation in municipal securities markets.
The release granting accelerated approval to the MSRB
rule establishing the exemptive procedure stated that
an exemption is to be granted only in "limited
circumstances." The release further stated that the
exemptive procedure is intended to "offer relief from
the prohibition on business without sacrificing the
rule's purpose and intent, i.e., to ensure that the
high standards and integrity of the municipal
securities industry are maintained. . . ." Securities
Exchange Act Rel. No. 34160 (June 13, 1994), 56 SEC
Docket 2676, 2677.
Tague Securities Corporation, 47 S.E.C. 743, 745 (1982)
(quoting City of Newark v. Bellezza, 159 N.J. Super.
123, 387 A.2d 378, 380 (App. Div. 1978)).
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The fact that Morgan was adversely affected by the NASD's exemption
denial does not make the NASD's action disciplinary in nature.
In Tague Securities, for example, we refused to review the action of the
Philadelphia Stock Exchange in directing one of its members to make trading
adjustments with other members. We determined that the action did not have
a disciplinary character, notwithstanding its adverse impact on the member.
Although we determined in Tague that we did not have jurisdiction to
review the exchange's order that the trades be adjusted, we observed that,
in the event Tague refused to make the directed trade adjustments and
became subject to exchange disciplinary sanctions as a result, the
subsequent disciplinary action would be reviewable. The same
reasoning applies here. If, for example, during a period when the
prohibition was not stayed, Morgan were found by the NASD to have engaged
in business in violation of the terms of Rule G-37 and sanctioned, Morgan
could then seek Commission review of that sanction.
B. We also conclude that the NASD's action does not constitute a
denial of membership. The operation of Rule G-37 and the NASD's exemption
denial have no bearing on Morgan's membership in the NASD, which continues
unchanged whether or not an exemption is granted. Morgan's inability to
Morgan seems to concede, in its May 30, 1997 Motion for
Clarification, that the two-year prohibition did not
constitute a "penalty."
See also New York Stock Exchange, Inc., Securities
Exchange Act Rel. No. 15827 (May 15, 1979), 17 SEC
Docket 589 (Commission considered exchange's
determination to treat proposed procedures as "non-
disciplinary" to be appropriate because the "primary
purpose of the [procedures was] to assure adequate
specialist performance . . . rather than to sanction
individual specialists for substandard performance.").
We also noted in Tague, 47 S.E.C. at 745, that the exchange
had not employed its disciplinary procedures in its
consideration of the exemption request there presented. At
the time of the NASD's consideration of Morgan's exemption
request, the NASD's rules provided that disciplinary
proceedings were considered first before one of the NASD's
district business conduct committees (or its Market
Surveillance Committee) and then, on appeal, before its
National Business Conduct Committee. Disciplinary
proceedings were governed by the Rule 9200 Series of the
NASD's Code of Procedure. Here, by contrast, Morgan's
exemption request was initially considered by NASDR's
Business Line and then by its Fixed Income Committee.
Id.
======END OF PAGE 5======
engage in certain aspects of the municipal securities business results, as
indicated, from the action of Morgan's own employee and the automatic
operation of Rule G-37, not from any condition imposed by the NASD. Morgan
is seeking relief from the operation of the rule, not from any condition
imposed on its membership by the NASD.
This conclusion is underscored by the instances in which, pursuant to
Section 19(d) of the Exchange Act, we have reviewed the NASD's imposition
of or refusal to modify a restriction agreement, under which a firm agrees
to certain restrictions on its business activities as a condition of NASD
membership. Section 19(d) authorizes review of such NASD
action because it relates to the NASD's membership process.
C. The NASD's action in denying Morgan an exemption does not
constitute a denial of access to services offered by the NASD because it
has no impact on Morgan's access to any service offered by the NASD.
Morgan did not seek access to any NASD service, but rather relief from the
automatic operation of Rule G-37's prohibition, which its employee's
actions triggered.
In those cases in which we have found a denial of access, an SRO had
denied or limited the applicant's ability to utilize one of the
fundamentally important services offered by the SRO. The services at issue
were not merely important to the applicant but were central to the function
of the SRO. In Scattered Corporation, for example, we
determined that we had jurisdiction to review the refusal by the Chicago
Stock Exchange to process a firm's request for registration as a market
Compare Beatrice J. Feins, 51 S.E.C. 918, 921 (1993).
In Feins, we dismissed an application where the
applicant had not been permitted to transfer his
exchange membership to a family member, observing that
he "retained his membership and all privileges thereto,
including his ability to transfer and lease the
membership." We also observed that he had not been
denied access to services of the exchange nor subject
to disciplinary action.
Domestic Securities, Inc., Securities Exchange Act Rel.
No. 37559 (August 13, 1996), 62 SEC Docket 1647
(jurisdiction found where requested modification of
restrictive agreement to increase number of securities
in which applicant could make markets was denied by
NASD); First Potomac Investment Services, Inc., 50
S.E.C. 848 (1992) (jurisdiction found where requested
modification of restriction agreement to permit the
trading of uncovered put options under certain
conditions was denied by NASD).
Securities Exchange Act Rel. No. 37249 (May 29, 1996),
62 SEC Docket 12.
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maker in certain issues because such action "limit[ed] the firm's access to
the CHX's services." Similarly, in William J. Higgins, we
granted review where the New York Stock Exchange denied a member's request
to install telephone link-ups to permit direct communication between the
exchange's trading floor and non-member customers. In determining that the
exchange's actions constituted a prohibition of, or limitation on, access
to services of a member, we found that "[t]he operation of a trading floor
is the principal service offered by a national securities exchange to its
members, and by its members to investors."
D. We turn finally to the fourth prong of Section 19(d), which bases
jurisdiction on an SRO's barring any person from becoming associated with a
member. Morgan cites our decision in Exchange Services, Inc.
asserting that, where NASD action has "had a negative `impact on
applicant's business,'" the firm has been "aggrieved" within the meaning of
Section 19(d)(2) and is, therefore, entitled to Commission review.
Contrary to Morgan's assertion, however, the basis for our jurisdiction in
Exchange Services was not that the NASD's action had a negative impact on
that firm's business, but that the NASD had effectively barred from
association certain of the firm's employees.
The issue in Exchange Services was whether the NASD had acted properly
in denying licensing exemptions for employees of an NASD member who took
unsolicited securities orders over the phone. The NASD had determined
that, because the employees' duties were not merely "clerical or
ministerial," they did not qualify for an NASD licensing exemption and had
to pass the requisite registered representative examination. The NASD
further denied the employees a waiver from the NASD's examination
requirement because it concluded that they were engaged in the firm's
securities business.
We stated in the Exchange Services opinion that, "[i]n reviewing the
NASD's decision not to grant the specific waivers requested in this
proceeding, we take no position on the general question of whether the
determinations of self-regulatory organizations to grant or deny waivers
48 S.E.C. 713 (1987).
Id. at 718-19. See also Creative Medical Dev., Inc.,
Securities Exchange Act Rel. No. 37611 (August 27,
1996), 62 SEC Docket 1954 (Commission granted review of
NASD action denying issuer temporary exception from
automatic quotation system's inclusion standards);
Biorelease Corporation, Securities Exchange Act Rel.
No. 35575 (April 6, 1995), 59 SEC Docket 84 (Commission
granted review of NASD action delisting securities from
its automatic quotation system).
48 S.E.C. 210 (1985).
Id. at 214.
======END OF PAGE 7======
are reviewable." Although the case involved an exemption
denial, it was the consequence of that denial -- i.e., that certain
persons were barred from association with the firm -- that provided the
jurisdictional basis for Commission review. As indicated, however, the
NASD's exemption denial at issue here had no similar effect on Morgan or
any of its associated persons.
IV.
On June 2, 1997, Morgan asked us to "clarify" our order granting its
stay request by "confirm[ing]" that our order "does not have the effect of
extending or tolling the application of Rule G-37's two year ban." We
decline to do so.
In its motion requesting a stay, Morgan stated that, "[i]f a stay is
not granted, the damage to the firm would be substantial and irreparable in
that it stands to lose a substantial amount of business opportunities in
Massachusetts as well as lose the good will that it has developed with
issuers in the State." When we granted Morgan's stay request, we stated
that, "in light of the time-limited nature of the ban, if we determine that
we do have jurisdiction, much of the value of any appeal would be lost if a
stay is not granted." Thus we were seeking to preserve the status quo ante
pending our determination of the jurisdictional issue.
The issuance of a stay eliminated the legal impediment to Morgan
engaging in municipal securities business in Massachusetts during the
pendency of its appeal. Morgan has now informed us, however, that, as a
"precautionary measure, [it] has not availed itself of the stay . . . ."
Nevertheless, Morgan never sought dissolution of the stay, and it was free
while the stay was in effect to pursue business opportunities that Rule G-
37 would otherwise have prohibited.
As discussed, Rule G-37's prohibition serves a compelling governmental
interest by establishing a two-year barrier between the making of a
proscribed contribution and engaging in municipal securities business.
Were we to grant Morgan's request, we would be reducing that barrier and,
thereby, undermining the rule's "prophylactic" purpose.
Morgan has advanced no compelling reason why the granting of that stay
should result in a reduction in the period of prohibition imposed by the
rule.
V.
For the reasons discussed above, we have concluded that the NASD's
decision to deny Morgan an exemption from the two-year prohibition under
Rule G-37 is not reviewable by this Commission
Id. at 215 n.14.
Blount, 61 F.3d at 945.
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pursuant to the Exchange Act. We accordingly dismiss Morgan's petition.
An appropriate order will issue.
By the Commission (Chairman LEVITT and Commissioners JOHNSON, HUNT,
CAREY, and UNGER).
Jonathan G. Katz
Secretary
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UNITED STATES OF AMERICA
before the
SECURITIES AND EXCHANGE COMMISSION
SECURITIES EXCHANGE ACT OF 1934
Rel. No.
Admin. Proc. File No. 3-9289
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:
In the Matter of the Application of :
:
MORGAN STANLEY & CO., INC. :
:
:
ORDER DISMISSING APPLICATION FOR REVIEW OF EXEMPTION DENIAL BY REGISTERED
SECURITIES ASSOCIATION
On the basis of the Commission's opinion issued this day, it is
ORDERED that Morgan Stanley & Co., Inc.'s petition for review of the
denial by the National Association of Securities Dealers, Inc. of an
exemption from a two-year prohibition under Rule G-37 of the Municipal
Securities Rulemaking Board be, and it hereby is, dismissed for want of
jurisdiction.
By the Commission.
Jonathan G. Katz
Secretary